GFOA: States, Localities Shouldn't Issue OPEB Bonds

WASHINGTON – The Government Finance Officers Association is recommending state and local governments refrain from issuing bonds to finance the unfunded liabilities of health care and other non-pension post-employment benefit programs.

GFOA made the recommendation in a revised best practice on "OPEB Bonds" that was recently approved by its executive board. The document details the risks associated with OPEB bonds.

The recommendation is in line with one GFOA made early last year against issuing pension bonds. That was also a revised best practice.

The earlier versions of these best practices had urged caution in issuing bonds, but had stopped short of recommending against issuance.

These latest recommendations come as state and local governments have issued billions of dollars of OPEB and pension bonds over the years. According to Thomson Reuters' data, 104 issues of OPEB bonds totaling almost $1.98 billion were issued from 2005 through 2015 and 641 issues of pension bonds totaling nearly $75.76 billion were issued from 1984 through January 2016.

In the revised best practice on OPEB bonds, the GFOA Committees on Governmental Debt Management and Retirement and Benefits Administration said it is particularly difficult to determine net OPEB liabilities for several reasons. First, health care costs and uses are less predictable than life expectancy, which is used to determine pension liabilities. Also, health care benefits may not be guaranteed by state law and employers can choose to reduce, cap or eliminate them. State or federal health care initiatives can change benefits in the future. In addition, health care benefits must take into account changes in medical technology as well as societal expectations.

GFOA said OPEB bonds can be complex and carry substantial risks, especially if they incorporate guaranteed investment contracts, swaps, or derivatives that can introduce counterparty, credit and interest rate risk.

Issuing taxable debt to finance OPEB liability increases a government's debt burden and uses up debt capacity that may otherwise be needed, the group said. In addition, taxable debt typically is issued without call options or with "make-whole calls," which can make refundings or restructurings more difficult and costly.

Rating agencies have not determined what constitutes a safe and reasonable funded ratio for OPEB and may not view a proposed OPEB bond issuance as a credit positive, particularly if the bonds are not part of a comprehensive plan to address OPEB liabilities, GFOA said.

OPEB bond proceeds that are invested may not earn more than the interest rate on the bonds that is owed, the group pointed out.

Also, actuarial estimates are volatile and could lead to over-funding of net OPEB liabilities, GFOA said.

GFOA's executive board also approved separate best practices for "Ensuring Other OPEB Sustainability" and "Sustainable Funding Practices for Defined Benefit Pensions and OPEB." Both were written by GFOA's Committees on Accounting, Auditing and Financial Reporting and Retirement and Benefits Administration.

The first recommends governments ensure OPEB sustainability by evaluating key items related to OPEB, such as the structure of benefits offered, the cost-drivers of the benefits, and clear communications with stakeholders.

The second recommends, state, provincial and local government officials ensure the costs of defined benefit pensions and OPEB are properly measured and reported.

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